Bernanke Testifies, 'We're Obviously Not Satisfied With Where We Are' In The Economy

Federal Reserve Chairman Ben Bernanke delivered a testimony to the
Budget Committee of the House of Representatives today.

His speech was titled, "The Economic Outlook and the Federal
Budget Situation."

Some main points from his prepared remarks:

- The sluggish recovery has been "frustratingly slow," leaving
the economy vulnerable to shocks.

Chairman Ryan, Vice Chairman Garrett, Ranking Member Van
Hollen, and other members of the Committee, I appreciate this
opportunity to discuss my views on the economic outlook,
monetary policy, and the challenges facing federal fiscal
policymakers.

The Economic Outlook
Over the past two and a half years, the U.S. economy has been
gradually recovering from the recent deep recession. While
conditions have certainly improved over this period, the pace
of the recovery has been frustratingly slow, particularly from
the perspective of the millions of workers who remain
unemployed or underemployed. Moreover, the sluggish expansion
has left the economy vulnerable to shocks. Indeed, last year, supply chain disruptions
stemming from the earthquake in Japan, a surge in the prices of
oil and other commodities, and spillovers from the European
debt crisis risked derailing the recovery. Fortunately, over
the past few months, indicators of spending, production, and
job market activity have shown some signs of improvement; and,
in economic projections just released, Federal Open Market
Committee (FOMC) participants indicated that they expect
somewhat stronger growth this year than in 2011. The outlook
remains uncertain, however, and close monitoring of economic
developments will remain necessary.

As is often the case, the ability and willingness of households
to spend will be an important determinant of the pace at which
the economy expands in coming quarters. Although real consumer
spending rose moderately last quarter, households continue to
face significant headwinds. Notably, real household income and
wealth stagnated in 2011, and access to credit remained tight
for many potential borrowers. Consumer sentiment has improved
from the summer's depressed levels but remains at levels that
are still quite low by historical standards.

Household spending will depend heavily on developments in the
labor market. Overall, the jobs situation does appear to have
improved modestly over the past year: Private payroll
employment increased by about 160,000 jobs per month in 2011,
the unemployment rate fell by about 1 percentage point, and new
claims for unemployment insurance declined somewhat.
Nevertheless, as shown by indicators like the rate of
unemployment and the ratio of employment to population, we
still have a long way to go before the labor market can be said
to be operating normally. Particularly troubling is the
unusually high level of long-term unemployment: More than 40
percent of the unemployed have been jobless for more than six
months, roughly double the fraction during the economic
expansion of the previous decade.

Uncertain job prospects, along with tight mortgage credit
conditions, continue to hold back the demand for housing.
Although low interest rates on conventional mortgages and the
drop in home prices in recent years have greatly improved the
affordability of housing, both residential sales and
construction remain depressed. A persistent excess supply of
vacant homes, largely stemming from foreclosures, is keeping
downward pressure on prices and limiting the demand for new
construction.

- Household spending is a driver of growth, but households still
face "significant headwinds."

- The economy is improving but there are significant policy risks
ahead.

- The slowing pace of business investment reflects "concerns
about both the domestic outlook and developments in Europe."

- Global stresses are primarily stemming from Europe, and the Fed
will "continue to monitor the situation closely and take every
available step to protect the U.S. financial system and the
economy."

- The "exceptional increase in the deficit has mostly reflected
the automatic cyclical response of revenues and spending to a
weak economy as well as the fiscal actions taken to ease the
recession and aid the recovery. As the economy continues to
expand and stimulus policies are phased out, the budget deficit
should narrow over the next few years."

- Policymakers have to be careful not to stunt the economy as
they try to rein in spending, as the economy remains very
vulnerable.

Scroll to the bottom for live updates from the questions that
followed.

Chairman Ryan, Vice Chairman Garrett, Ranking Member Van
Hollen, and other members of the Committee, I appreciate this
opportunity to discuss my views on the economic outlook,
monetary policy, and the challenges facing federal fiscal
policymakers.

The Economic Outlook
Over the past two and a half years, the U.S. economy has been
gradually recovering from the recent deep recession. While
conditions have certainly improved over this period, the pace
of the recovery has been frustratingly slow, particularly from
the perspective of the millions of workers who remain
unemployed or underemployed. Moreover, the sluggish expansion
has left the economy vulnerable to shocks. Indeed, last year, supply chain disruptions
stemming from the earthquake in Japan, a surge in the prices of
oil and other commodities, and spillovers from the European
debt crisis risked derailing the recovery. Fortunately, over
the past few months, indicators of spending, production, and
job market activity have shown some signs of improvement; and,
in economic projections just released, Federal Open Market
Committee (FOMC) participants indicated that they expect
somewhat stronger growth this year than in 2011. The outlook
remains uncertain, however, and close monitoring of economic
developments will remain necessary.

As is often the case, the ability and willingness of households
to spend will be an important determinant of the pace at which
the economy expands in coming quarters. Although real consumer
spending rose moderately last quarter, households continue to
face significant headwinds. Notably, real household income and
wealth stagnated in 2011, and access to credit remained tight
for many potential borrowers. Consumer sentiment has improved
from the summer's depressed levels but remains at levels that
are still quite low by historical standards.

Household spending will depend heavily on developments in the
labor market. Overall, the jobs situation does appear to have
improved modestly over the past year: Private payroll
employment increased by about 160,000 jobs per month in 2011,
the unemployment rate fell by about 1 percentage point, and new
claims for unemployment insurance declined somewhat.
Nevertheless, as shown by indicators like the rate of
unemployment and the ratio of employment to population, we
still have a long way to go before the labor market can be said
to be operating normally. Particularly troubling is the
unusually high level of long-term unemployment: More than 40
percent of the unemployed have been jobless for more than six
months, roughly double the fraction during the economic
expansion of the previous decade.

Uncertain job prospects, along with tight mortgage credit
conditions, continue to hold back the demand for housing.
Although low interest rates on conventional mortgages and the
drop in home prices in recent years have greatly improved the
affordability of housing, both residential sales and
construction remain depressed. A persistent excess supply of
vacant homes, largely stemming from foreclosures, is keeping
downward pressure on prices and limiting the demand for new
construction.

In contrast to the household sector, the business sector has
been a relative bright spot in the current recovery.
Manufacturing production has increased 15 percent since its
trough, and capital spending by businesses has expanded briskly
over the past two years, driven in part by the need to replace
aging equipment and software. Moreover, many U.S. firms,
notably in manufacturing but also in services, have benefited
from strong demand from foreign markets over the past few
years.

More recently, the pace of growth in business investment has
slowed, likely reflecting concerns about both the domestic
outlook and developments in Europe. However, there are signs
that these concerns are abating somewhat. If business
confidence continues to improve, U.S. firms should be well
positioned to increase both capital spending and hiring: Larger
businesses are still able to obtain credit at historically low
interest rates, and corporate balance sheets are strong. And,
though many smaller businesses continue to face difficulties in
obtaining credit, surveys indicate that credit conditions have
begun to improve modestly for those firms as well.

Globally, economic activity appears to be slowing, restrained
in part by spillovers from fiscal and financial developments in
Europe. The combination of high debt levels and weak growth
prospects in a number of European countries has raised
significant concerns about their fiscal situations, leading to
substantial increases in sovereign borrowing costs, concerns
about the health of European banks, and associated reductions
in confidence and the availability of credit in the euro area.
Resolving these problems will require concerted action on the
part of European authorities. They are working hard to address
their fiscal and financial challenges. Nonetheless, risks
remain that developments in Europe or elsewhere may unfold
unfavorably and could worsen economic prospects here at home.
We are in frequent contact with European authorities, and we
will continue to monitor the situation closely and take every
available step to protect the U.S. financial system and the
economy.

Let me now turn to a discussion of inflation. As we had
anticipated, overall consumer price inflation moderated
considerably over the course of 2011. In the first half of the
year, a surge in the prices of gasoline and food--along with
some pass-through of these higher prices to other goods and
services--had pushed consumer inflation higher. Around the same
time, supply disruptions associated with the disaster in Japan
put upward pressure on motor vehicle prices. As expected,
however, the impetus from these influences faded in the second
half of the year, leading inflation to decline from an annual
rate of about 3-1/2 percent in the first half of 2011 to about
1-1/2 percent in the second half--close to its average pace in
the preceding two years. In an environment of well-anchored
inflation expectations, more-stable commodity prices, and
substantial slack in labor and product markets, we expect
inflation to remain subdued.

Against that backdrop, the Federal Open Market Committee (FOMC)
decided last week to maintain its highly accommodative stance
of monetary policy. In particular, the Committee decided to
continue its program to extend the average maturity of its
securities holdings, to maintain its existing policy of
reinvesting principal payments on its portfolio of securities,
and to keep the target range for the federal funds rate at 0 to
1/4 percent. The Committee now anticipates that economic
conditions are likely to warrant exceptionally low levels of
the federal funds rate at least through late 2014.

As part of our ongoing effort to increase the transparency and
predictability of monetary policy, following its January
meeting the FOMC released a statement intended to provide
greater clarity about the Committee's longer-term goals and
policy strategy.1The statement begins
by emphasizing the Federal Reserve's firm commitment to pursue
its congressional mandate to foster stable prices and maximum
employment. To clarify how it seeks to achieve these
objectives, the FOMC stated its collective view that inflation
at the rate of 2 percent, as measured by the annual change in
the price index for personal consumption expenditures, is most
consistent over the longer run with the Federal Reserve's
statutory mandate; and it indicated that the central tendency
of FOMC participants' current estimates of the longer-run
normal rate of unemployment is between 5.2 and 6.0 percent. The
statement noted that these statutory objectives are generally
complementary, but when they are not, the Committee will take a
balanced approach in its efforts to return both inflation and
employment to their desired levels.

Fiscal Policy Challenges
In the remainder of my remarks, I would like to briefly discuss
the fiscal challenges facing your Committee and the country.
The federal budget deficit widened appreciably with the onset
of the recent recession, and it has averaged around 9 percent
of gross domestic product (GDP) over the past three fiscal
years. This exceptional increase in the deficit has mostly
reflected the automatic cyclical response of revenues and
spending to a weak economy as well as the fiscal actions taken
to ease the recession and aid the recovery. As the economy
continues to expand and stimulus policies are phased out, the
budget deficit should narrow over the next few years.

Unfortunately, even after economic conditions have returned to
normal, the nation will still face a sizable structural budget
gap if current budget policies continue. Using information from
the recent budget outlook by the Congressional Budget Office, one can
construct a projection for the federal deficit assuming that
most expiring tax provisions are extended and that Medicare's
physician payment rates are held at their current level. Under
these assumptions, the budget deficit would be more than 4
percent of GDP in fiscal year 2017, assuming that the economy
is then close to full employment.2 Of even
greater concern is that longer-run projections, based on
plausible assumptions about the evolution of the economy and
budget under current policies, show the structural budget gap
increasing significantly further over time and the ratio of
outstanding federal debt to GDP rising rapidly. This dynamic is
clearly unsustainable.

These structural fiscal imbalances did not emerge overnight. To
a significant extent, they are the result of an aging
population and, especially, fast-rising health-care costs, both
of which have been predicted for decades. Notably, the
Congressional Budget Office projects that net federal outlays
for health-care entitlements--which were about 5 percent of GDP
in fiscal 2011--could rise to more than 9 percent of GDP by
2035.3Although we have
been warned about such developments for many years, the time
when projections become reality is coming closer.

Having a large and increasing level of government debt relative
to national income runs the risk of serious economic
consequences. Over the longer term, the current trajectory of
federal debt threatens to crowd out private capital formation
and thus reduce productivity growth. To the extent that
increasing debt is financed by borrowing from abroad, a growing
share of our future income would be devoted to interest
payments on foreign-held federal debt. High levels of debt also
impair the ability of policymakers to respond effectively to
future economic shocks and other adverse events.

Even the prospect of unsustainable deficits has costs,
including an increased possibility of a sudden fiscal crisis.
As we have seen in a number of countries recently, interest
rates can soar quickly if investors lose confidence in the
ability of a government to manage its fiscal policy. Although
historical experience and economic theory do not indicate the
exact threshold at which the perceived risks associated with
the U.S. public debt would increase markedly, we can be sure
that, without corrective action, our fiscal trajectory will
move the nation ever closer to that point.

To achieve economic and financial stability, U.S. fiscal policy
must be placed on a sustainable path that ensures that debt
relative to national income is at least stable or, preferably,
declining over time. Attaining this goal should be a top
priority.

Even as fiscal policymakers address the urgent issue of fiscal
sustainability, they should take care not to unnecessarily
impede the current economic recovery. Fortunately, the two
goals of achieving long-term fiscal sustainability and avoiding
additional fiscal headwinds for the current recovery are fully
compatible--indeed, they are mutually reinforcing. On the one
hand, a more robust recovery will lead to lower deficits and
debt in coming years. On the other hand, a plan that clearly
and credibly puts fiscal policy on a path to sustainability
could help keep longer-term interest rates low and improve
household and business confidence, thereby supporting improved
economic performance today.

Fiscal policymakers can also promote stronger economic
performance in the medium term through the careful design of
tax policies and spending programs. To the fullest extent
possible, our nation's tax and spending policies should
increase incentives to work and save, encourage investments in
the skills of our workforce, stimulate private capital
formation, promote research and development, and provide
necessary public infrastructure. Although we cannot expect our
economy to grow its way out of our fiscal imbalances, a more
productive economy will ease the tradeoffs that we face and
increase the likelihood that we leave a healthy economy to our
children and grandchildren.

2. The Congressional Budget
Office (CBO) reported an "alternative fiscal scenario" (Table
1-7, p. 22) that assumed that most expiring tax cuts and the
Medicare "doc fix" would be extended and also that the
automatic spending reductions required by the Budget Control
Act (BCA) would not take effect; under this scenario the
deficit would be about 5 percent of GDP in fiscal 2017. If the
automatic spending cuts from the BCA, however, are assumed to
be put in place (the effects of which are shown in Table 1-6,
p. 18) then the deficit would be more than 4 percent in fiscal
2017. See Congressional Budget Office (2012), The
Budget and Economic Outlook: Fiscal Years 2012 to
2022. Washington: Congressional Budget Office,
January. Return
to text

3. This projection is under the
alternative fiscal scenario developed by the Congressional
Budget Office, which assumes most current policies are
extended. See Congressional Budget Office
(2011). The
Long-Term Budget Outlook. Washington: Congressional
Budget Office. Return
to text

More recently, the pace of growth in business investment has
slowed, likely reflecting concerns about both the domestic
outlook and developments in Europe. However, there are signs
that these concerns are abating somewhat. If business
confidence continues to improve, U.S. firms should be well
positioned to increase both capital spending and hiring: Larger
businesses are still able to obtain credit at historically low
interest rates, and corporate balance sheets are strong. And,
though many smaller businesses continue to face difficulties in
obtaining credit, surveys indicate that credit conditions have
begun to improve modestly for those firms as well.

Globally, economic activity appears to be slowing, restrained
in part by spillovers from fiscal and financial developments in
Europe. The combination of high debt levels and weak growth
prospects in a number of European countries has raised
significant concerns about their fiscal situations, leading to
substantial increases in sovereign borrowing costs, concerns
about the health of European banks, and associated reductions
in confidence and the availability of credit in the euro area.
Resolving these problems will require concerted action on the
part of European authorities. They are working hard to address
their fiscal and financial challenges. Nonetheless, risks
remain that developments in Europe or elsewhere may unfold
unfavorably and could worsen economic prospects here at home.
We are in frequent contact with European authorities, and we
will continue to monitor the situation closely and take every
available step to protect the U.S. financial system and the
economy.

Let me now turn to a discussion of inflation. As we had
anticipated, overall consumer price inflation moderated
considerably over the course of 2011. In the first half of the
year, a surge in the prices of gasoline and food--along with
some pass-through of these higher prices to other goods and
services--had pushed consumer inflation higher. Around the same
time, supply disruptions associated with the disaster in Japan
put upward pressure on motor vehicle prices. As expected,
however, the impetus from these influences faded in the second
half of the year, leading inflation to decline from an annual
rate of about 3-1/2 percent in the first half of 2011 to about
1-1/2 percent in the second half--close to its average pace in
the preceding two years. In an environment of well-anchored
inflation expectations, more-stable commodity prices, and
substantial slack in labor and product markets, we expect
inflation to remain subdued.

Against that backdrop, the Federal Open Market Committee (FOMC)
decided last week to maintain its highly accommodative stance
of monetary policy. In particular, the Committee decided to
continue its program to extend the average maturity of its
securities holdings, to maintain its existing policy of
reinvesting principal payments on its portfolio of securities,
and to keep the target range for the federal funds rate at 0 to
1/4 percent. The Committee now anticipates that economic
conditions are likely to warrant exceptionally low levels of
the federal funds rate at least through late 2014.

As part of our ongoing effort to increase the transparency and
predictability of monetary policy, following its January
meeting the FOMC released a statement intended to provide
greater clarity about the Committee's longer-term goals and
policy strategy.1The statement begins
by emphasizing the Federal Reserve's firm commitment to pursue
its congressional mandate to foster stable prices and maximum
employment. To clarify how it seeks to achieve these
objectives, the FOMC stated its collective view that inflation
at the rate of 2 percent, as measured by the annual change in
the price index for personal consumption expenditures, is most
consistent over the longer run with the Federal Reserve's
statutory mandate; and it indicated that the central tendency
of FOMC participants' current estimates of the longer-run
normal rate of unemployment is between 5.2 and 6.0 percent. The
statement noted that these statutory objectives are generally
complementary, but when they are not, the Committee will take a
balanced approach in its efforts to return both inflation and
employment to their desired levels.

Fiscal Policy Challenges
In the remainder of my remarks, I would like to briefly discuss
the fiscal challenges facing your Committee and the country.
The federal budget deficit widened appreciably with the onset
of the recent recession, and it has averaged around 9 percent
of gross domestic product (GDP) over the past three fiscal
years. This exceptional increase in the deficit has mostly
reflected the automatic cyclical response of revenues and
spending to a weak economy as well as the fiscal actions taken
to ease the recession and aid the recovery. As the economy
continues to expand and stimulus policies are phased out, the
budget deficit should narrow over the next few years.

Unfortunately, even after economic conditions have returned to
normal, the nation will still face a sizable structural budget
gap if current budget policies continue. Using information from
the recent budget outlook by the Congressional Budget Office, one can
construct a projection for the federal deficit assuming that
most expiring tax provisions are extended and that Medicare's
physician payment rates are held at their current level. Under
these assumptions, the budget deficit would be more than 4
percent of GDP in fiscal year 2017, assuming that the economy
is then close to full employment.2 Of even
greater concern is that longer-run projections, based on
plausible assumptions about the evolution of the economy and
budget under current policies, show the structural budget gap
increasing significantly further over time and the ratio of
outstanding federal debt to GDP rising rapidly. This dynamic is
clearly unsustainable.

These structural fiscal imbalances did not emerge overnight. To
a significant extent, they are the result of an aging
population and, especially, fast-rising health-care costs, both
of which have been predicted for decades. Notably, the
Congressional Budget Office projects that net federal outlays
for health-care entitlements--which were about 5 percent of GDP
in fiscal 2011--could rise to more than 9 percent of GDP by
2035.3Although we have
been warned about such developments for many years, the time
when projections become reality is coming closer.

Having a large and increasing level of government debt relative
to national income runs the risk of serious economic
consequences. Over the longer term, the current trajectory of
federal debt threatens to crowd out private capital formation
and thus reduce productivity growth. To the extent that
increasing debt is financed by borrowing from abroad, a growing
share of our future income would be devoted to interest
payments on foreign-held federal debt. High levels of debt also
impair the ability of policymakers to respond effectively to
future economic shocks and other adverse events.

Even the prospect of unsustainable deficits has costs,
including an increased possibility of a sudden fiscal crisis.
As we have seen in a number of countries recently, interest
rates can soar quickly if investors lose confidence in the
ability of a government to manage its fiscal policy. Although
historical experience and economic theory do not indicate the
exact threshold at which the perceived risks associated with
the U.S. public debt would increase markedly, we can be sure
that, without corrective action, our fiscal trajectory will
move the nation ever closer to that point.

To achieve economic and financial stability, U.S. fiscal policy
must be placed on a sustainable path that ensures that debt
relative to national income is at least stable or, preferably,
declining over time. Attaining this goal should be a top
priority.

Even as fiscal policymakers address the urgent issue of fiscal
sustainability, they should take care not to unnecessarily
impede the current economic recovery. Fortunately, the two
goals of achieving long-term fiscal sustainability and avoiding
additional fiscal headwinds for the current recovery are fully
compatible--indeed, they are mutually reinforcing. On the one
hand, a more robust recovery will lead to lower deficits and
debt in coming years. On the other hand, a plan that clearly
and credibly puts fiscal policy on a path to sustainability
could help keep longer-term interest rates low and improve
household and business confidence, thereby supporting improved
economic performance today.

Fiscal policymakers can also promote stronger economic
performance in the medium term through the careful design of
tax policies and spending programs. To the fullest extent
possible, our nation's tax and spending policies should
increase incentives to work and save, encourage investments in
the skills of our workforce, stimulate private capital
formation, promote research and development, and provide
necessary public infrastructure. Although we cannot expect our
economy to grow its way out of our fiscal imbalances, a more
productive economy will ease the tradeoffs that we face and
increase the likelihood that we leave a healthy economy to our
children and grandchildren.

2. The Congressional Budget
Office (CBO) reported an "alternative fiscal scenario" (Table
1-7, p. 22) that assumed that most expiring tax cuts and the
Medicare "doc fix" would be extended and also that the
automatic spending reductions required by the Budget Control
Act (BCA) would not take effect; under this scenario the
deficit would be about 5 percent of GDP in fiscal 2017. If the
automatic spending cuts from the BCA, however, are assumed to
be put in place (the effects of which are shown in Table 1-6,
p. 18) then the deficit would be more than 4 percent in fiscal
2017. See Congressional Budget Office (2012), The
Budget and Economic Outlook: Fiscal Years 2012 to
2022. Washington: Congressional Budget Office,
January. Return
to text

3. This projection is under the
alternative fiscal scenario developed by the Congressional
Budget Office, which assumes most current policies are
extended. See Congressional Budget Office
(2011). The
Long-Term Budget Outlook. Washington: Congressional
Budget Office. Return
to text

Ryan: It's not for the Federal Reserve "to step in and bail us out"—Bernanke has been too addicted to accommodative monetary policy.

Representative Chris Van Hollen: What can we learn about maintaining debt sustainability from Europe?

Bernanke: "I hesitate a bit to advise my colleagues in Europe but I would cite the IMF and others, but very slow growth makes adjustment more difficult."

"Congress has a very important job to address the long-term sustainability" of U.S. finances in the long-term—and more aggressive action is necessary—but "we need to at least avoid doing harm" to the economy in the short term.

"One of the great strengths of our economy is the university system."

Bernanke points out that the last crisis pulled the economy to the brink of a "global meltdown."

Bernanke says that the dollar swap agreement between central banks has become a new asset on the Fed's balance sheet—i.e. it's new money.

However, he adds that it would be "easy" to sterilize this liquidity injection if inflation prospects were different. Right now the Fed has continued to pursue accommodative monetary policy, and this follows along those lines.